Canada’s tax, transfer system needs rethink amid growing inequality: study

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Canadian policy makers will have to consciously "lean against" income inequality to avert following the United States down the path of widening disparities, a bank study to be released Monday says.

"If Canada doesn't want to have higher income inequality in the future, governments will have to lean against the trend towards that outcome," said Craig Alexander, chief economist of Toronto-Dominion Bank and co-author of the paper with Francis Fong.

Canada has long been a more equitable country than its neighbour to the south, a place where it's also easier to pursue the American dream of climbing from rags to riches. But the paper argues that fault lines are starting to emerge, driven in part by increased globalization and technology.

Though Canada's track record is better than that of the United States, Canada has seen a "significant rise in inequality over the past several decades," the report says. Moreover, "a number of trends suggest that income inequality may rise materially higher, and social mobility could decline, in the years ahead."

Several forces give the economists cause for concern. In a relatively small, trade-oriented economy, Canada is influenced by globalization, technological change and a global war for talent. Many middle-income, middle-skill jobs have already been outsourced or replaced with technology.

A commodity and housing boom has insulated Canada from hollowing-out the middle class in recent years. But they note these booms "do not last forever."

They cite recent OECD research that shows a 1-per-cent increase in inequality lowers GDP growth by between 0.6 per cent and 1.1 per cent.

Rising income inequality erodes social mobility, which is "corrosive for economic growth and prosperity," Mr. Alexander said in an interview.

He often visits the southern United States as part of his work, towns where poverty and a lack of opportunity are starkly visible in the decrepit housing and paucity of jobs. He does not want to see Canada go down that road.

The paper comes after new data show the top 1 per cent of earners in Canada saw a 2012 decline in their share of total income, unlike in the U.S.. Still, Canadian levels of income concentration at the top remain at some of their highest levels in the past 35 years, and top earners have seen the fastest growth in incomes in that time.

The big shift in income inequality in Canada happened in the 1990s, when governments cut transfers. Through the 2000s, the income gap has been "relatively flat," though higher than in previous decades. Minimum-wage hikes have supported lower-income earners, while middle-income earners have seen the slowest growth.

Canadians may take pride in their country's more equitable outcomes, but "Canada does less income redistribution than many think," the report said, noting that Canada's ranking on income equality tumbles to 19th place in the OECD's measure of after-tax and transfer income, from 9th place on the basis of market income (or compensation).

The economists stop short of calling for tax hikes for the rich (they do note it's "one way" to redistribute income). But they say there are "opportunities" to make Canada's tax and transfer system more progressive and redistributive, and that a review of the country's tax system is warranted. They advocate more means testing (tests to determine whether people qualify for government assistance) for public programs.

Boutique tax credits and tax shelters such as TFSAs are examples of unintended consequences, Mr. Alexander said – programs started with good intentions, but which in recent years have disproportionately benefited the well-offs, who are more likely to take advantage of these vehicles.

The authors recommend more measures to bolster labour market outcomes, by improving recognition of foreign workers' credentials, investing in education among Aboriginal students and ensuring low-income youth still have access to ever-pricier professional programs like law, medicine and graduate business schools.